How to profit from a property crash

Following the news that house prices fell by 2.5% in a single month in March, it seems likely that UK house prices are set to follow their US counterparts. The slump as we have been predicting for some time was inevitable. As Capital Economics' Roger Bootle notes, combine "extraordinarily expensive" houses with rapidly-tightening credit and falling prices are all but guaranteed. The only question is how far and how fast they tumble. So how can you take advantage of a down-trend that could be with us for some time?

Selling to rent

Some may be tempted to step off the ladder, wait, and then jump on again once prices have bottomed out. If we get the 30% price falls recently predicted by the IMF, this could work. The trouble is, you have the hassle of giving up your home, finding somewhere to rent and then reversing the process later. It's expensive, too. On the average London house, currently around £350,000, the 3% stamp duty alone comes to £10,500. And frankly, if you've waited this long to sell, you've missed the top of the market. The good news is, there are strategies that don't involve calling the removal men.

Property spread bets

At Betfair.com you can place bets directly against other punters on where you think the Halifax house price index for the UK, or just London, will be in 2009 or 2010. For example, a December 2010 spread of, say, 265-270 for London suggests prices won't dip more than about 25% by the end of 2010. If you disagree you can "sell the spread" at 265 for, say, £500 per point. If the spread then dropped to 255-260 anytime before December 2010, you could buy back your bet to close it at 260 and take a profit of £2,500 (5 x £500).

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Interest-rate spread bets

With the economy slowing, the Bank of England is under pressure to cut interest rates to assist homeowners by reducing the base rate at which it funds banks. But will Libor the related interbank rate that influences our cost of borrowing fall, too? Spread betting firms offer the chance to bet on this.

Say a quote on where the three-month sterling interbank interest rate might be in six months' time is priced at 95.24/95.26. The mid-point here is 95.25. The price is always quoted as 100 minus the expected interest rate. So, 100-95.25 = 4.75%. If you think current mutual mistrust between banks will keep this rate much higher (it is about 6% just now), you could sell the spread at 95.24 for, say, £50 per point where one point is equal to 0.01% (or one "basis point").

If you are proved right, the spread might later move to, for instance, 94.99/95.01, suggesting a mid-price of 95.00 (100-95 = a rate of 5%). You could now close out by buying at 95.01, taking a profit of 23 points (95.24-95.01) x £50 = £1,150. Of course, you could lose the same amount or more if rates move against you.

Down bets on individual shares

A crumbling housing market spells more trouble for UK builders and banks heavily exposed to the mortgage markets, such as Bradford & Bingley (BB) and HBOS (HBOS). DIY firms such as the Home Retail Group (HOME) are also vulnerable. You could, therefore, place down bets on individual shares via a spreadbetting broker.

But remember, this type of bet can backfire should prices rise suddenly, so always set a stop-loss above the price of your downbet to minimise the damage. And if you are new to spread betting, only wager small amounts per point. You can also place a downbet on specific sectors.